Emma Wall: Hello and welcome to the Morningstar Series, 'Why Should I Invest With You?'. I am Emma Wall and I'm joined today by George Boyd-Bowman, Manager of the Neptune Global Income Fund.
Hi, George.
George Boyd-Bowman: Hi, Emma.
Wall: So I thought we'd start by taking a look at how the fund has performed. You had three stonking years of positive performance and then year-to-date the fund much like equity markets is down presumably the two things are correlated.
Bowman: Yes, sure. So typically as an income fund, we do tend to perform better in stronger equity markets, that’s been our house view at Neptune and that’s the way we've been positioned over the last couple of years. So therefore the underperformance we've endured this year is in keeping with our expectations. Now, the key reason for that underperformance year-to-date is our positioning in Japan, as we know Japan after some strong years of outperformance against global markets has endured a tougher period this year.
Now there are a couple of reasons for that. Firstly, what's going on in China, we know that just like we had at the end of last summer, China has induced another bout of global uncertainty and has had obvious implications for global markets. And there are two reasons why that affects Japan. Firstly through end market exposure for Japanese companies, but also the impact of the yen. So we have seen some yen strength year-to-date as a result of uncertainty stemming from China and that’s meant that the Japanese market has struggled a bit this year.
Wall: We should see end of that yen strength now, shouldn’t we because as of last week, Japan is now in negative interest rate territory. Not across the board, but for certain bonds and that will mean a halt to this yen rally, won’t it?
Bowman: That’s right. So it's not all bad news in Japan this year, I am pleased to say, Mr Kuroda, the Governor of the Bank of Japan has once again stepped up to the plate and helped out investors like ourselves, who are positive on Japan. So as you say they introduced negative rates, not on all of those balances, all of those deposits at the Bank of Japan, but on some of them. But once again he has indicated that he is not finished yet in his mission to end deflation in Japan.
Wall: Thing about Japan is, if we are sitting here talking to global equity full stop fund manager, I wouldn’t be surprised to see Japan there. But for an income manager I think Japan is a slightly different play, isn’t it?
Bowman: Yes. That’s a really good point. Actually Japan is our favorite developed market globally and as you say that’s unusual perhaps for an income investor. In fact, over the last 20 years there has been no reason to look in Japan as an income investor, but that’s changed.
And that’s because of Abenomics and in particular because of the third arrow of structural reform and what that’s led on to is corporate governance reform. And that’s led to this emerging dividend culture that didn’t use to be there and it comes down to these ideas of willingness and abilities.
So corporate governance reform in Japan is driving on this new found willingness to be more shareholder friendly and that’s all down to these corporate governance reforms, because in our view, there is no debate about whether Japanese companies have the ability to pay higher dividend.
In fact, when we look at payout ratios globally, they are extremely low in Japan just 30% versus 60% here in the UK and of course, there are those massive cash piles on Japanese corporate balance sheets. To give you an idea of the numbers, if we look at just the largest 1,900 companies in Japan, that’s all the companies in the TOPIX Index, the cash on their balance sheets amounts to JPY80 trillion, that’s $650 billion.
If that was a country, it would be a country the same size of Switzerland, it would be the 21st biggest country in the world, just in cash sitting there idle doing nothing. In fact if you include all companies in Japan, you can treble that number. So really what gets us so excited about Japan is this new emerging dividend culture and that’s a combination of the longstanding ability of Japanese companies to pay dividends.
But this new found willingness which is being driven on by corporate governance reform and it's when you match up that ability to pay dividends, and willingness that you create this really powerful potent cocktail for dividend growth.
Wall: Of course you are not just a Japan income fund although obviously you are very positive on the region. Another one of your sort of what I think is about 30%, 30% of the fund is actually is in the US Now in the US if we were talking six months ago, everybody would have said, it's extremely overflated, why you are holding things in a market that is so overvalued, obviously it's come off since then with all the concerns that we've had of China since beginning of the year, but a lot of people are still not positive on the US. What do you say to that?
Bowman: Well, that’s interesting. You mentioned the valuation angle on the US and we have a take on that as well. So one of the things we have been doing in our US holdings is, rotating out of those so-called dividend aristocrats, those companies that have grown their dividends, perhaps 10, 25, even 50 years in a row, towards more what we call dividend special situations. So this is where they haven’t necessarily grown their dividend consistently over the last five, 10 years, but we think there is a reason, there is a catalyst, why they are going to do so, over the next 10 years.
So instead of concentrating on the current dividend aristocrats, we're focusing on finding the future ones and to do that we use our dividend special situation framework, and that can manifest itself in a number of different ways. It can just be a company that’s looking to raise its payout ratio over time. It could be a situation like Japan, we just talked about, new found willingness, massive ability, or indeed it could be a situation where a company is temporarily focusing on something other than growing a dividend. They might be focusing on reinvesting in the business. But once they finish doing that, they can focus on growing the dividend again.
So you mentioned the U.S., we are positive on the U.S. we actually think the underlying growth is strong, we think the housing market is strong, we think employment is strong. In fact, now expectations for interest rate rises in the U.S. have fallen to perhaps one this year. At Neptune we are more positive, we believe we should at least see two.
Wall: But not the four to six, we were predicting it to six weeks ago.
Bowman: Perhaps not to four and of course, you know the Fed is still guiding to four, I think that is unrealistic this point in time. But it does have an implication for what type of companies you should own don’t just focus on those over inflated, dividend aristocrats, you know safety, we feel you're paying too much for safety in those types of companies.
Wall: George, thank you very much.
Bowman: Thank you.
Wall: This is Emma Wall for Morningstar. Thank you for watching.
